Moody’s Spurning Upgrade Sends Buyers Down Curve: Turkey Credit

Turkish short-dated notes are
outperforming 10-year bonds after Moody’s Investors Service
refrained from raising the nation’s credit and as the central
bank keeps borrowing costs low.

The spread between two-year benchmark debt and the 10-year
bonds reached its widest since August 2011 on Feb. 7 even as
Turkey offers the highest yields for longer-dated debt among 21
major emerging economies after Brazil and India. Rates on one-
year debt fell to their lowest on record that day.

Ten-year lira debt yields have jumped 29 basis points since
Moody’s damped speculation of a second upgrade on Jan. 28,
saying the current-account gap renders the country vulnerable to
external shocks. The Treasury sold 14-month lira debt at 5.75
percent yesterday, down from 6.2 percent at a similar sale last
month. The central bank’s Monetary Policy Committee will set
rates next week after cutting overnight lending and borrowing
costs by 25 basis points last month.

“Moody’s contributed to the steepening curve because
upgrade expectations had spurred purchases on the long side,”
Onder Turker, a fixed-income trader at Finansbank AS, said in e-
mailed comments from Istanbul yesterday. “The current shape of
the yield curve is the result of the central bank’s low-rates
policy.”

Lira Weakens

Yields on two-year lira notes fell 36 basis points since
the start of 2013, extending last year’s biggest drop among 18
emerging markets. That compares with an increase of 34 basis
points in 10-year yields. Economy Minister Zafer Caglayan
rekindled rate-cut speculation this month, asking the central
bank on Feb. 7 to not allow the lira to appreciate
“excessively.”

The lira sank to its lowest level in almost a month after
Caglayan’s comments, which may push the Real Effective Exchange
Rate Index lower. The REER rose to 120.16 in January from 118.08
in the previous month. A reading of 120 or above signals
excessive currency strength, according to the central bank,
which will announce the reading for February on March 5.

Central bank Governor Erdem Basci has managed the lira and
Turkey’s credit growth by adjusting interest rates daily through
a corridor he introduced in October 2011. The governor reduced
the overnight lending and borrowing rates by 25 basis points
each, to 8.75 percent and 4.75 percent, respectively, on Jan.
22. A “measured rate cut to the interest-rate corridor or
policy rate is possible if the REER appreciates excessively,”
Basci said Jan. 29.

Default Swaps

Yields on 10-year benchmark lira debt jumped 17 basis
points this month to 6.98 percent, still the highest relative to
peers in Europe. The spread between two-year benchmark debt and
the 10-year bonds peaked at 123 basis points on Feb. 7. Poland
offers 4.08 percent on its 10-year bonds and Hungary 6.33
percent.

“Internationals tend to be buyers of long end bonds,”
Esther Law, an emerging-market strategist at Societe Generale SA
in London, said in an e-mailed note to clients yesterday. “We
see upside risk in short-end yield in the near term on the
prospect of further reserve-requirement ratio tightening, while
the long-end bond yield is likely to be driven by external
factors such as U.S. yield and risk appetite.”

Rating Outlook

Five-year credit-default swaps on Turkey was little changed
at 134 today, compared with 139 for Russia and 168 for South
Africa, both of which are rated higher. Falling prices show
improving perceptions of creditworthiness. The contracts pay the
buyer face value in exchange for the underlying securities or
cash equivalent if a borrower fails to adhere to its debt
agreements.

The lira advanced 0.4 percent to 1.7647 per dollar at 5:11
p.m. in Istanbul today, extending this year’s appreciation to
1.1 percent.

The extra yield investors demand to hold Turkey’s dollar
debt over U.S. Treasuries declined three basis points, or 0.03
percentage point, to 193, according to JPMorgan Chase & Co.’s
EMBI Global Index. Turkey’s spread is 76 basis points below the
average for emerging markets, compared with 89 basis points at
the end of last year.

“Expectations for an upgrade have been postponed after the
Moody’s statement and this is exerting pressure on long-term
maturities,” Ali Cakiroglu, an HSBC Asset Management strategist
in Istanbul, said in e-mailed comments yesterday. “The central
bank’s policy is a lot more effective on short-term debt, but
expectations play a bigger role on long-term debt and a
sovereign-rating upgrade was the biggest expectation for us.”